Supreme Court Recognizes a New General Duty of Good Faith and Honesty in Canadian Contract Law

December 11, 2014

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The Supreme Court of Canada recently released a ground-breaking decision in Bhasin v. Hrynew. While the Court viewed the decision as a modest, incremental step, it will have a significant impact on contractual law in Canada going forward. The Supreme Court recognized a new general organizing principle of good faith in Canadian common law. Underlying this principle is a duty of honesty in contractual performance. Justice Cromwell, writing for a unanimous Court noted that, “finding that there is a duty to perform contracts honestly will make the law more certain, more just and more in tune with reasonable commercial expectations.”

Background of the Case

Harish Bhasin was an education savings plan (“ESP”) enrollment director for Canadian American Financial Corp. (“Can-Am”) for over 10 years. Larry Hrynew, also an enrollment director for Can-Am, was Bhasin’s competitor. Hrynew had approached Bhasin to propose a merger on several occasions, but Bhasin had resisted his persistent takeover attempts. Hrynew was in a strong position with Can-Am because he had the largest agency in Alberta, and a strong relationship with the regulator. Using this clout, Hrynew pressured Can-Am to consider merging Bhasin’s agency with his. When the Alberta Securities Commission raised concerns about compliance issues among Can-Am’s enrollment directors, the company was required to appoint a provincial trading officer (“PTO”) to conduct audits of Can-Am’s enrollment directors for compliance with securities laws. When Can-Am appointed Hrynew to the role, Bhasin objected to having a competitor review his confidential business records.

Can-Am repeatedly misled Bhasin throughout this period by telling him that the Commission had rejected a proposal to appoint an outside PTO, and that Hrynew was under an obligation to maintain confidentiality with respect to audited records, neither of which was true. In addition, Can-Am held numerous conversations with the Commission about compliance, during which it outlined significant restructuring plans in which Bhasin’s agency was to be merged under Hrynew’s. Can-Am responded evasively when Bhasin asked if a merger between the two agencies was inevitable when he learned of these plans. Can-Am eventually decided not to renew Bhasin’s commercial dealership agreement, and Hrynew recruited most of Bhasin’s sales agents. Basin lost the value of his business as a result, and brought an action against both Can-Am and Hrynew.

The central issue of this case was whether or not Canadian common law imposed a general duty on parties to perform their contractual obligations in good faith, and if so, had Can-Am breached its duty of honesty. The Supreme Court found that it did, and that Can-Am had breached its duty to perform the contract with Bhasin honestly in exercising the non-renewal clause, but found that the claims against Hrynew had been rightly dismissed. The Court varied the assessment of Bhasin’s damages to $87,000 plus interest, representing the value of his business at the time the agreement expired.

Good Faith as a General Organizing Principle

The notion of “good faith” underlies many aspects of contract law, but prior to Bhasin, the approach to good faith performance of contracts in Canadian common law was unsettled. Common law courts had resisted acknowledging a general doctrine of good faith in contractual performance despite ongoing debates within the legal community. Instead, the duty of good faith had been restricted to particular types of contracts, such as employment, landlord-tenant, franchise and insurance contracts, where power imbalances often exist. This was primarily because imposing a general duty of good faith was thought to be inconsistent with freedom of contract. The Civil Code of Québec, as well as the laws of many jurisdictions in the United States however, already recognized a broad duty of good faith in contractual performance.

The Court concluded that a general organizing principle was needed to make the common law more coherent, predictable and just. This broader principle would be more consistent with the reasonable expectation of commercial parties for a basic level of good faith in contractual dealings. Recognizing this general organizing principle was also consistent with the Court’s responsibility to make incremental changes in the common law when appropriate to meet the changing needs of Canadian society.

The Supreme Court also recognized a new common law duty of honest contractual performance that is derived from the general organizing principle of good faith. This duty imposes a minimum standard that requires contractual parties not to lie or otherwise knowingly mislead each other about the performance of their contractual obligations. The Court noted that the duty honesty could be relaxed by the parties through agreement, so long as they respect its minimum core requirements, and any modification would need to be in express terms.

The Court chose to adopt a flexible approach with respect to the organizing principle of good faith, which recognizes the importance of the general principle without displacing existing contractual law. The Court noted that, ‘generally, claims of good faith will not succeed if they do not fall within these existing doctrines. But we should also recognize that this list is not closed.”

Given this approach, the scope that courts will give the organizing principle of good faith going forward is difficult to predict, however the Supreme Court made clear that the general organizing principle of good faith differs from fiduciary duties. A contracting party’s performance should have “appropriate regard” for the legitimate interests of the other contracting party, but does not engage duties of loyalty to the other party or a duty to put the interests of the other contracting party first. The nature of this regard will depend on the context of the contractual relationship, and should be determined on a case by case basis. There is also no unilateral duty to disclose relevant information, but a party should not actively mislead or deceive the other contracting party.

What this Means for Businesses

Bhasin will hopefully provide increased certainty for parties to commercial contracts, who will now be able to rely on a minimum standard of good faith and honesty from other contracting parties. This will also provide businesses with a better ability to protect their interests when a contract goes wrong. Businesses should keep in mind that they may be able to relax the requirements of honest performance through written agreement with another contracting party, provided the core requirements of the duty of honesty are still met. Whether or not this will prove to be a useful tool in specific commercial contexts remains to be seen. Businesses will also need to exercise increased care in assessing their contractual performance obligations, from the time of negotiations forward. In particular, they will need to ensure that their communications and conduct do not actively mislead or deceive the other party in relation to their contractual performance.